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Executive Summary
In 2000, Merck & Co., Inc., a global research-driven pharmaceutical company, was facing a threat that patents of their most popular drugs would expire in two years. Following by the patents' expiration, company's sales and profits would decline dramatically since generic substitutes would take place. The only way to recover the loss caused by patents' expiration was to develop new drugs and refresh the company's portfolio.
LAB Pharmaceuticals, who specializes in developing compounds for treatment of neurological disorders, offered Merck to license a new developing drug, Davanrik, which had functions to treat depression, obesity or both. At the time of the offer, Davanrik was in pre-clinical development, which would need to pass the three-phase clinical tests approved by the FDA. Testing would last seven years, which would appear to be high failure and costly. Under the licensing agreement, Merck would be responsible for the approval of Davanrik from the FDA, its manufacturing, and its marketing. As return, Merck would pay LAB an initial fee, a loyalty on all sales, and make additional payments as Davanrik completed each stage of the approval process.
As Merck's financial evaluation team, we analyzed this offer through decision tree analysis, and estimated the expected value from each possible outcome and the expected payments to the LAB. We concluded the expected value of licensing Davanrik is around $13.69 million, which included the expected payments to the LAB of $16.68 million.
Our recommendation is that Merck should bid on licensing Davanrik no more than $13.69 million. Fir ...